International finance || 💀💀

the study of international finance

the study of international finance

the study that is concerned with economic interactions between countries and their influencers on conporations

foregin exchange (fx) market

a 24h, otc, largely inter-bank market, where London is the largest centre

inter-bank market

trading occurs largely between banks

over-the-counter market

brokers and dealers negotiate directly with one another over telecomunication networks, there is no centralized exchange

sell side

generally consists of large FX trading banks and other liquidity providers

buy side

consists of clients who use these banks and other liquidity providers to undertake FX transactions

main participants of the fx market

corporate accounts, real money accounts, levraged accounts, retail accounts, governments, central banks, sovereign wealth funds

corporate accounts

corporations of all sizes undertake FX transactions during cross-border purchases and sales of goods and services

real money accounts

investment funds managed by institutional investors such as: insurance companies, mutual funds, pension funds, endowments, exchange-traded funds

leveraged accounts

the professional trading community consisting of: hedge funds, proprietary trading shops, commodity trading advisers, high-frequency algorithmic traders, proprietary trading desks at banks, FX brokers

retail accounts

individuals trading for their own accounts as well as smaller hedge funds and other active traders

governments

all of them have FX needs: maintaining consulates in foregin countries and overseas military bases

central banks

they intervene in FX markets in order to influence either the level or trend in the domestic exchange rate

sovereign wealth funds (SWFs)

many countries with large current account surpluses have diverted some of the resultant international capital flows into them

trading motives and strategies

speculation, hedging, arbitrage

reporting dealers

bank dealers and others providing liquidity and warehousing risk for the rest of the market

non-financial customers

primarily corporations using the FX market to support their core business activities, especially international trade

other financial institutions

traditionally the financial customers of reporting dealers

iso currency codes

a list of three letter currency codes, they are typically composed of a country’s two-character internet country code plus a third character denoting the currency unit

spot transactions

transactions that require almost immediate delivery

forward transactions

transactions require future delivery

value date

the date of settlement of a transaction

outright forward

transaction that requires delivery at a future date of a specified amount of one currency for a specified amount of another currency

swap transaction

is the simultaneous purchase and sale of a give amount of foregin exchange where the buying and selling are separated in time

direct quote

1 unit of foregin currency = n units of domestic currency

indirect quote

1 unit of domestic currency = n units of foregin currency

cross rate

an exchange rate between two currencies, calculated from their common relationships with a third currency

discount

when a currency is less valuable in the forward market than in the spot market

premium

when a currency is more valuable in the forward market than in the spot market

outright forward quotation

the spot quotation from which we must substract premiums or add discounts

currency arbitrage

the act of buying and selling currencies instantaneously for a riskless profit

eurocurrency

is any freely convertible currency deposited in a bank outside of its country of origin

eurocredits

bank loans denoted in eurocurrencies

factors of currency valuation

1. monetary and fiscal policy, which can affect interest rates

2. inflation

3. central bank intervention

4. politics

5. market psychology

the law of one price

identical goods or financial assets traded in two markets must have the same price in both markets

parity relationships

the exchange rate between two currencies of two countries purchase power

interest rate parity

links interest rates and forward exchange rates

purchasing power parity

links spot exchange rates and inflation rates

fisher effect

links inflation rates and interest rates

international fisher effect

links spot exchange rates and interest rates

expectations theory

links forward rates and expected spot exchange rates

covered interest arbitrage

is an arbitrage trading strategy whereby an investor capitalizes on the interest rate differencial between two countries by using a forward contract to cover exchange rate risk

the big mac index

is based on ppp, it compares the price of the burger in the US and abroad signaling whether a currency is under- or overvalues

transaction exposure

comes from cash flows that arise from payments and receivables in foreign currencies

translation exposure

in an accounting exposure associated with the restatement of foreign currency denominated financial statements

economic exposure

comes from the changes in cash flows caused by an unexpected change in exchange rates

natural hedge

a strategy that reduces financial risks in the normal operation of an institution

internal exposure management

1. balance sheet hedge

2. leading and lagging

3. netting

4. matching

5. pricing policies

external exposure management

1. forward market hedge

2. money market hedge

3. derivatives

forward market hedge

offset a foreign currency receivable with a forward contract to sell that currency or offset a payable with a forward contract to buy that currency

money market hedge

offset a foreign currency receivable by borrowing in the same currency

currency futures

an exchange-traded futures contract that specify the price in one currency at which another currency can be bought or sold at a future date

currency options

gives the buyer the right, but not the obligation, to buy or sell a given amount of one currency for another at a fixed exchange rate

balance sheet hedge

involves structuring a balance sheet such that exchange rate changes affect assets and liabilities in tandem

leading and lagging

involves either acceleration or deceleration in the timing of the payment of a foreign currency or the timing of the receipt

netting

reduction of the amount of intercompany receipts and payments that flow through the foreign exchange market

matching

matching the foreign currency cash inflows and outflows with respect to both volume and timing

pricing policies

the tactic of altering the foreign currency price in response to exchange rate changes

exchange rate regimes

refers to the policy framework adopted by a country’s central bank to manage its currency

fiat currency

is physical money backed by national governments

cryptocurrency

is a medium of exchange created and stored electronically used cryptographic techniques

stablecoins

are new forms of cryptocurrencies which get their stable value by being backed by stores of central bank money and government securities

central bank digital currencies

are digital forms of central bank money for retail payments being explored by central banks

dollarization

a country uses the currency of another nation as its medium of exchange and unit of account (not just the US dollar)

seigniorage

the difference between the face value of money and the cost of producing it

currency board

economic and monetary union

a zone where a single monetary policy prevails and inside which a single currency, or currencies which are perfect substitutes, circulate freely

gross domestic product

is the value of all the final goods and services produced within a nation’s borders

gross national product

is the value of all the final goods and services produced by nation’s citizens

terms of trade

the ratio of the price of exports to the price of imports

autarky

when a country does not trade with other countries

open economy

when a country trades with other countries

absolute advantage

when a country can produce a good at a lower cost, or use fewer resources in its production than its trading partner

comparative advantage

when the opportunity cost of producing a good is lower than of its trading partners

tariffs

taxes that the government levies on imported goods

quotas

restrict the quantity of a good that can be imported into a country

voluntary export restraint

is a trade barrier under which an exporting country agrees to limit its exports of a good to its trading partners

regional trading block

a group of countries that have signed an agreement to reduce and progressively eliminate barriers to trade

free trade area

all bariers to the flow of goods and services among members are eliminated

customs union

extends fta by not only allowing free movement of goods and services but also creating a common trade plicy

common market

incorporates all aspects of customs union and extends it by allowing free movement of factors of production among members

balance of payments

a double-entry bookkeeping system that summarizes a country’s economic transactios with the rest of the world for a particular period of time

current account

measures the flow of goods and services

capital account

measures transfers of capital

financial account

records investment flows

elasticities approach

focuses on the expenditure-switching effect of changes in the relative prices of imports and exports

absorption approach

focuses on aggregate expenditure and saving decisions